Merkel: Euro crisis worst since WW11

German Chancellor says Eurozone situation is most serious since peace broke out in 1945 as yields on sovereign debt shoot up

EUROPE faces its “toughest hour since World War Two”, German Chancellor Angela Merkel warned her ruling Christian Democratic Union (CDU) party yesterday.

Her stark warning came as Italy slipped further into financial crisis and markets piled more pressure on the French and Spanish governments by demanding a higher yield to buy their bonds.

“The challenge of our generation is to finish what we started in Europe and that is to bring about, step by step, a political union,” she told the CDU’s annual congress.

Without sufficient rescue funding, the euro may fall apart, she warned as she called for stricter controls to stop countries building up unsustainable debts. “We need better budgetary control throughout the Eurozone,” she said.

The Chancellor was speaking as new Italian Prime Minister Mario Monti attempted to form a government of technocrats to solve Italy’s deepening financial crisis.

Italy had hoped that replacing Silvio Berlusconi with Monti would calm bond markets, but any fillip was short lived.

Yields shot up again after the government was forced to pay an unsustainably high interest rate on €3bn (£2.57bn) of five-year bonds auctioned yesterday. The yield came in at 6.29 per cent, the highest level in 14 years and well above the 5.32 per cent it paid just last month.

Yields on Spanish ten-year debt rose above six per cent, to 6.12 per cent, creeping closer to the seven per cent mark beyond which Greece, Ireland and Portugal took bailouts.

French yields also crept up by 0.038 to 3.424 per cent, taking the spread over bunds to 1.643 percentage points.

The European Central Bank (ECB) appeared to step in to buy Italian bonds in an attempt to stop yields rising even further.

However, new figures from the ECB showed it cut down bond purchases last week, to €4.478bn from €9.52bn in the previous week, despite the increasing market turmoil as Berlusconi’s premiership finally came to a close.

Europe’s stock markets reacted badly to the higher yields. Germany’s DAX tumbled 1.19 per cent, the French CAC slid 1.28 per cent and the FTSE 100 fell 0.47 per cent.

Monti, who announced that he plans to stay in power until elections in 2013, has still not appointed a government, leaving uncertainty lingering over the future of Italy’s fiscal reforms.

Meanwhile, the San Francisco Fed warned that the Eurozone’s economic woes were likely to cross the Atlantic.

Its latest economic forecasts point to a greater than 50 per cent risk of the US falling into recession next year – with the impact of the Eurozone crisis on trade largely to blame.

Meanwhile, Angela Merkel’s party voted in favour of offering struggling Eurozone members an orderly way out of the currency union.

The measure needs to be adopted by the party’s coalition partners to become policy. It is part of Merkel’s plans to create a tighter core of Eurozone countries.